Chapter 7: The Foundation of Savings

Calculate Assume Jasmine has owned an EE bond for 3 years. If the fixed rate of interest is 2%, how much must she report in interest income each year she owns the bond? a. $10. b. $20. c. $122. d. $0.

a. $0.

Mike pays taxes at the 12% federal income tax bracket level. His state also has a 6% tax on investment income, including interest earned. If Mike were to cash in a U.S. savings bond for $300, which he originally purchased for $100, how much will he pay in federal and state taxes? a. $15. b. $24. c. $45. d. $63.

a. $15.

Your neighbor has monthly expenses totaling $3,725. His employer has indicated that the firm is expecting to announce layoffs soon. How much should your neighbor have in an emergency fund if he wants to cover 6 months of living expenses? a. $22,350. b. $3,725. c. $11,175. d. $20,000.

a. $22,350.

Tula, age 33, is thinking about investing for retirement. She plans to retire when she turns age 62. She will need $1.2 million today's dollars in assets. If she can earn an average annual 7.75% rate of return, what will be her real rate of return? a. 4.11%. b. 4.25%. c. 4.50 %. d. 5.75%.

c. 4.50 %.

What occurs when you are deceived into believing that you will receive something that does not actually exist? a. Pyramid scheme. b. Ponzi scheme. c. Fraud. d. Theft.

c. Fraud.

In which of the following can UGMA accounts invest? I. Real estate. II. Mutual funds. III. Bonds. a. I only. b. I and III only. c. II and III only. d. I, II, and III.

c. II and III only.

Emergency Fund Ratio

Monetary Assets/Monthly Living Expenses

Real Rate of Return

[(1+Nominal Return)/(1+Inflation Rate)] - 1

If Haley can obtain a 2.5% annual yield on a single $500 EE bond, how much will the bond be worth after 30 years (round your answer)? a. $985. b. $1,049. c. $15,375. d. $21,951.

b. $1,049.

Joe has cash in a savings account totaling $7,500, and his monthly expenses are $2,500. What is his emergency fund ratio? a. 0.25. b. 3. c. 2. d. 5.

b. 3.

With savings of $4,300 and monthly expenses of $9,600, what is your emergency fund ratio? a. 0.2190. b. 0.6378. c. 0.4479. d. 0.4218.

c. 0.4479.

At which type of firms can you establish a Roth IRA? a. Mutual fund companies. b. Banks. c. Credit unions. d. Banks, credit unions, and mutual fund companies.

d. Banks, credit unions, and mutual fund companies.

One strategy to avoid prize scams from telemarketers is to: a. never pay anything to receive a free prize. b. always check your credit report at least twice a year. c. never give your credit card number out over the phone unless you initiated the phone call. d. never pay anything to receive a free prize and never give your credit card number out over the phone unless you initiated the phone call.

d. never pay anything to receive a free prize and never give your credit card number out over the phone unless you initiated the phone call.

Which of the following is an indication of a fraud? a. Hearing an investment advisor claim that he has consistently earned 15% annually for his clients over the last 10 years. b. Learning that a bank is offering a 2% yield on 3-year certificates of deposit. c. Listening to a stockbroker tell you that she believes the value of stocks is too high and that you should buy bonds. d. Receiving a promotional letter from an investment advisor saying that the advisor can match the return of the stock market.

a. Hearing an investment advisor claim that he has consistently earned 15% annually for his clients over the last 10 years.

Which of the following is false in relation to U.S. savings bonds? a. Interest earned is received on a tax-free basis at the federal level. b. U.S. savings bonds should not be used to hold the majority of a person's emergency fund assets. c. Interest earned is received on a tax-free basis at the state level. d. Interest earned is received on a tax-free basis at both the federal and state levels.

a. Interest earned is received on a tax-free basis at the federal level.

Why are investment companies and banks reluctant to open accounts for minors? a. Minors cannot legally contract. b. Minors are typically bad investors. c. Minors are unlikely to save much money. d. Minors tend to take their money out once they reach legal age

a. Minors cannot legally contract.

Which of the following sources of emergency funds will have the least negative impact on your lifetime financial situation if the source is used to meet emergency expenses? a. Taking money from your savings account. b. Borrowing money using a credit card. c. Being unprepared for major car repairs, major medical expenses, and major home repairs. d. Selling investment assets.

a. Taking money from your savings account.

One way to become more motivated to save for emergencies is to: a. consider how the people you love would be affected if you could not pay for an emergency. b. rely on others to pay for your emergencies. c. withdraw and aggressively invest your current savings so that you will increase your emergency fund savings. d. consider that your emergency fund savings balance exceeds the FDIC insurance limits.

a. consider how the people you love would be affected if you could not pay for an emergency.

All of the following are true about Roth IRAs, except: a. contributions to a Roth IRA are made with pretax dollars. b. it's easy to get your money out of a Roth IRA. c. the broad range of investment options in Roth IRAs offer higher returns than bank accounts. d. contributions to a Roth IRA are made with after-tax dollars.

a. contributions to a Roth IRA are made with pretax dollars.

All of the following are true of custodial accounts, except: a. custodial accounts represent a way parents can indefinitely control money they give to children. b. minors can set up custodial accounts with a parent. c. minors can set up custodial accounts with an older relative or friend. d. custodians can withdraw money from a custodial account for the benefit of the minor.

a. custodial accounts represent a way parents can indefinitely control money they give to children.

All of the following are true of traditional IRAs, except: a. they are appropriate accounts to hold emergency funds. b. contributions are made with pretax dollars. c. contributions are deductions for AGI. d. withdrawals before the account holder reaches age 59½ years old are taxable and may be subject to a penalty.

a. they are appropriate accounts to hold emergency funds.

An effective way to motivate yourself to save involves: a. visualizing where you want to be in the future. b. feeling angry whenever you spend money. c. using CDs exclusively for emergency fund savings. d. generalizing your dreams and financial goals.

a. visualizing where you want to be in the future

Ji-Yung is 14 years old and a young entrepreneur. She is interested in investing some of her savings in real estate. She recently found a small house that she can rent out to college students. Her dad has agreed to the idea. Ji-Yung and her dad learned that the property will need to be held in a custodial account until Ji-Yung turns 21. Which custodial account can be used in this situation? a. UGMA. b. UTMA. c. Either UGMA or UTMA. d. Neither UGMA nor UTMA.

b. UTMA.

All of the following charge a depositor an early withdrawal fee, except a: a. certificate of deposit. b. money market savings account. c. dedicated savings account. d. All accounts charge an early withdrawal fee.

b. money market savings account.

Leonard and Louise have been married for 14 years. They have combined annual incomes of $87,000. After taxes and other payroll deductions, they bring home $56,555 annually. If they save 10% of their take-home pay and use the rest for household living expenses, how much should they have in an emergency fund to meet the 3-month emergency fund requirement (round your answer)? a. $12,700. b. $14,100. c. $16,900. d. $18,100.

c. $16,900.

Calculate Assume Jasmine has owned an EE bond for 3 years. The fixed rate of interest is 2% and the current value of the bond is $2,000. If Jasmine were to cash in the bond tomorrow, how much interest will she lose (approximately) as a penalty? a. $0. b. $10. c. $20. d. $40.

c. $20.

How long will it take for Sancho to double his investment if he purchases a U.S. savings bond that yields 3.30% annually (round your answer to the nearest year)? a. Never. b. 17 years. c. 22 years. d. 30 years.

c. 22 years.

Which of the following is an appropriate investment vehicle or source from which to draw emergency funds? a. A baseball card collection valued at $5,000. b. A savings account held at the local bank. c. An online checking account. d. A savings account held at the local bank or an online checking account.

d. A savings account held at the local bank or an online checking account.

Tyler is 18 years old. He has $3,000 worth of EE bonds in his name. He received the bonds as gifts over the years. He is hoping to cash in the bonds and use the proceeds for college. Which of the following statements is true in relation to his goal? a. Because he is using the bonds for college, he will not owe taxes when the bonds are redeemed. b. Because he is younger than age 24 and single, he will not owe taxes when the bonds are redeemed. c. Because he is younger than age 24, he will need to pay taxes on the interest earned when the bonds are redeemed. d. Because he received the bonds as a gift, he must pay taxes on the full amount of the redemption.

d. Because he received the bonds as a gift, he must pay taxes on the full amount of the redemption.

As a general rule, how much money should be kept in an emergency fund? a. $9,700. b. $12,500. c. No less than 9 months' worth of expenses. d. Between 3 and 6 months of expenses.

d. Between 3 and 6 months of expenses.

Which of the following is not a wise use of emergency fund money? a. Going to the hospital if you unexpectedly become ill. b. Avoiding foreclosure or eviction. c. Replacing an air conditioning unit for your home. d. Buying gifts.

d. Buying gifts.

If parents are concerned their child may use money set aside for her or his college education unwisely, they could: a. establish a custodial IRA to prevent premature withdrawals. b. establish a custodial account in another child's name. c. refuse to allow the minor to establish his or her own custodial account. d. establish a 529 plan to maintain control of the funds gifted.

d. establish a 529 plan to maintain control of the funds gifted.

Roth IRAs allows individuals to: a. set money aside for emergencies. b. reduce the opportunity cost of emergency funds. c. receive potential tax-free growth on investment earnings. d. set money aside for emergencies, reduce the opportunity costs of an emergency fund, and receive potential tax-free growth.

d. set money aside for emergencies, reduce the opportunity costs of an emergency fund, and receive potential tax-free growth.

A qualified distribution from a Roth IRA can take place: a. when you reach age 59½. b. when the Roth IRA has been open for 5 years. c. anytime you withdraw your contributions/principal. d. when you reach 59½ years old and the Roth IRA account has been open for at least 5 years.

d. when you reach 59½ years old and the Roth IRA account has been open for at least 5 years.

Borrowing money in the event of job loss is a bad idea because: a. you may not have access to credit. b. you may not have the means to repay the debt. c. it may lead to bigger problems. d. you may not have access to credit or other means to repay the debt, and it may lead to bigger problems.

d. you may not have access to credit or other means to repay the debt, and it may lead to bigger problems.

Which of the following has the highest level of liquidity? a. Commodities. b. Stocks. c. Certificates of deposit. d. Savings accounts.

d. Savings accounts.

With a very stable profession, if your monthly expenses totaled $3,300, approximately how much should you have in an emergency fund? a. $10,000. b. $3,300. c. $15,000. d. $7,000.

a. $10,000.

Which of the following should Taylor have to invest at Level 3 of her investment pyramid? a. High risk tolerance. b. Limited emergency fund savings. c. Short- to intermediate-term time horizon. d. A strong preference for government-insured products.

a. High risk tolerance.

Lannie funded her Roth IRA yesterday. Unfortunately, today she had an unexpected financial emergency. When can she take out her contribution to the Roth IRA without a penalty? a. Today. b. In 5 years. c. When she reaches age 59½. d. In 3 days.

a. Today.

Roth IRA accounts are unique because: a. they can only hold a limited number of investments. b. investment earnings receive unique tax treatment. c. earnings are taxed at the lower capital gains tax rate. d. they are no different than brokerage accounts or 401(k) plans.

b. investment earnings receive unique tax treatment.

Which one of the following statements regarding identity theft is incorrect? a. Identify theft results in losses of more than $13 billion per year. b. The occurrence of identity theft has decreased dramatically since it was designated as a federal crime. c. Little can be done by individuals to stop identify theft from occurring. d. More than one-third of households have experienced some form of identity theft.

c. Little can be done by individuals to stop identify theft from occurring.

Which of the following assets would be an appropriate choice for Evan, who is building a portfolio at Level 2 of his investment pyramid? a. Savings account. b. Certificate of deposit. c. Mutual fund. d. Collectibles.

c. Mutual fund.

The variability of returns associated with investing is called: a. liquidity risk. b. objective risk. c. volatility. d. subjective risk.

c. volatility.

Custodial IRAs, whether Roth IRAs or traditional IRAs, allow minors to: a. begin saving for retirement prior to reaching age 16. b. invest in long-term assets. c. invest in bank CDs. d. begin saving for retirement prior to reaching age 16, invest in long-term assets, and invest in bank CDs.

d. begin saving for retirement prior to reaching age 16, invest in long-term assets, and invest in bank CDs.

An account that pays greater than savings account interest but limits the number of withdrawals per month is known as a: a. money market savings account. b. certificate of deposit. c. dedicated savings account. d. certificate of deposit and dedicated savings account.

d. certificate of deposit and dedicated savings account.

James established a Roth IRA and funded it with $5,500. By the next year, the Roth IRA was valued at $7,230. Yesterday, James found out emergency car repairs will cost him $3,000. What is the maximum that James can withdraw tax- and penalty-free? a. $7,230. b. $5,500. c. $3,000. d. $2,600.

b. $5,500.

Which of the following statements regarding the taxation of U.S. savings bonds is correct? a. Interest on I bonds is not taxable but interest on EE bonds is taxable. b. Interest on I bonds and EE bonds is taxed by the federal government when the bonds are redeemed. c. If savings bonds' proceeds are used to pay for qualifying higher education expenses, such as college tuition and fees, the interest is only taxed by the state government and not the federal government. d. Interest on I bonds and EE bonds is not taxed by the federal government.

b. Interest on I bonds and EE bonds is taxed by the federal government when the bonds are redeemed.

Luigi has saved $4,500 in an online savings account. Does he meet the basic emergency fund ratio guideline if his monthly living expenses are $1,800? a. Yes, because he can cut back on his monthly expenses to reach the 6-month benchmark. b. No, because he has only enough in the account to cover 2.5 months of expenses. c. Yes, because he has more than enough in the account to cover 3.5 months of expenses. d. No, because he has only enough in the account to cover less than one month of expenses.

b. No, because he has only enough in the account to cover 2.5 months of expenses.

Bart has been a successful financial advisor for more than 10 years. During that time, he has generated returns that have never been less than 5% annually. He does not advertise but that has not stopped investors from opening new accounts with his firm. It turns out that Bart has been taking the deposits of new investors, keeping a portion for himself, and sending the rest to earlier investors. Bart is running a(n): a. pyramid scheme. b. Ponzi scheme. c. telemarketing scheme. d. identity theft fraud.

b. Ponzi scheme.

Tony struggles to save money. He knows it is important, but his immediate needs and wants make it difficult for him not to spend the money he has set aside. Which of the following options would be most effective for him to start building savings? a. Giving $20 to his friend Maria each week and ask her to save the money for him. b. "Hiding" cash in his apartment. c. Automatically having money deposited into a restricted account each month. d. Accepting the fact that he probably will not be able to save money.

c. Automatically having money deposited into a restricted account each month.

Which of the following statements is true when you invest in a federally insured bank account? a. Given the federal insurance, you are taking no risk. b. Although there is federal insurance, you are faced with liquidity risk. c. Even though there is federal insurance in place, you still face inflation risk. d. Given the federal insurance, you are taking significant business risk.

c. Even though there is federal insurance in place, you still face inflation risk.

Who of the following may establish a Roth IRA? a. Lamar, who is enrolled in college and has $9,000 in term-40scholarships. b. Mary, who is retired and is taking distributions from her traditional IRA. c. Nelda, who is still in college and has a part-time job as a sales clerk. d. Shelby, who had $3,000 of interest income last year.

c. Nelda, who is still in college and has a part-time job as a sales clerk.

Which of the following is a benefit of holding money in a CD for an emergency fund? a. The money cannot be withdrawn without a penalty prior to maturity. b. The money could be earning a higher rate of return if it were invested more aggressively. c. The money is earning a higher rate of return than a savings account. d. There are no benefits to holding money in a CD for an emergency.

c. The money is earning a higher rate of return than a savings account.

All of the following bank products allow a depositor to make additional contributions to the account, except a: a. savings account. b. money market savings account. c. certificate of deposit. d. dedicated savings account.

c. certificate of deposit.

A(n) _________ seals your credit reports so that _________ cannot be opened. a. fraud alert; credit cards b. credit hold; credit reports c. credit freeze; new accounts d. account password; unauthorized accounts

c. credit freeze; new accounts

A fraud that entails recruiting new members to sell products or services and to also recruit additional new members is called a(n): a. telemarketing fraud. b. Ponzi scheme. c. pyramid scheme. d. identity theft.

c. pyramid scheme.

Tony has $3,000 saved in a money market account. He just received a birthday gift and is deciding what to do with the money. He has narrowed down his options to either increasing his savings or purchasing a subscription to an online video streaming service. If he chooses the video streaming service, the savings alternative is: a. a form of regret. b. an irresistible temptation. c. the opportunity cost. d. the impulse cost.

c. the opportunity cost.

The tax benefits of custodial accounts mean that: a. earnings on investments in custodial accounts are tax-free. b. all earnings on investments in custodial accounts are taxed at the custodian's tax rate. c. the tax rate on the investment earnings could be as low as 0%. d. earnings greater than $2,200 are protected.

c. the tax rate on the investment earnings could be as low as 0%.

How can Karina redeem a U.S. savings bond? a. Cash in the bond at a local bank or credit union. b. Cash in the bond with her employer if the employer offers U.S. savings bonds as an employee benefit. c. Cash in the bond when filing her federal income taxes. d. Cash in the bond at a local bank, when filing her federal income taxes, or with an employer who offers U.S. savings bonds as an employee benefit.

d. Cash in the bond at a local bank, when filing her federal income taxes, or with an employer who offers U.S. savings bonds as an employee benefit.

Lucy and Doug are engaged and hoping to get married in a few months. Lucy has been developing a budget. She knows that their combined income will be about $80,000 per year. After paying taxes and other employer withholdings, she thinks they will have take-home pay of approximately $55,000. Lucy is an aggressive saver. She thinks that she and Doug can save at least $500 per month in an emergency fund. Currently, they have about $5,000 of savings in a savings account. What type of account do you recommend to Lucy and Doug for their current and new savings to earn the highest interest rate? a. Savings account. b. Money market savings account. c. Cash in a home vault. d. Dedicated savings account.

d. Dedicated savings account.

Which of the following statements best describes the concept of tax-deferred growth? a. Earnings are never taxed. b. Earnings do not accumulate in the account until after taxes have been paid. c. Taxpayers can take deductions for the taxes that they pay on the earnings in the account. d. Earnings within an account are not taxed as income until the earnings are withdrawn from the account, which could be many years after the earnings were first credited to the account.

d. Earnings within an account are not taxed as income until the earnings are withdrawn from the account, which could be many years after the earnings were first credited to the account.

How might someone gain information about you to commit identity theft? I. Going through your garbage looking for personal information. II. Sending a phishing e-mail to obtain personal information. III. Stealing your wallet or purse. a. III only. b. I and II only. c. II and III only. d. I, II, and III.

d. I, II, and III.

In which of the following can UTMA accounts invest? I. Real estate. II. Mutual funds. III. Bonds. a. I only. b. I and III only. c. II and III only. d. I, II, and III.

d. I, II, and III.

Which of the following statements indicates a possible fraud? I. Fill out this e-mail survey to receive a free gift. II. Be one of the first 30 callers to receive three days and two nights at a famous Las Vegas hotel. III. Your wealthy uncle recently died; send $250 to obtain details about your inheritance. a. II only. b. III only. c. II and III only. d. I, II, and III.

d. I, II, and III.

Linda likes the idea of using a portion of her federal income tax refund to purchase a U.S. savings bond. Which of the following statements is true regarding this investment possibility? I. The minimum investment for an EE bond is $50 using her tax return. II. The minimum investment for an EE bond is $25 using her tax return. III. The minimum investment for an I bond is $50 using her tax return. a. I only. b. III only. c. I and III only. d. II and III only.

d. II and III only.

What are benefits of a custodial IRA? a. It offers tax-deferred growth on investment earnings. b. It allows minors to begin building their long-term savings. c. It gives minors full control of the accumulated funds in the custodial IRA once they reach the age of majority. d. It offers tax-deferred growth on investment earnings, allows minors to build long-term savings, and gives minors control of assets in the IRA once they reach the age of majority.

d. It offers tax-deferred growth on investment earnings, allows minors to build long-term savings, and gives minors control of assets in the IRA once they reach the age of majority.

Which of the following is a threat associated with keeping cash at home? a. Theft. b. Lost interest. c. No protection against impulse purchases. d. Loss of interest, theft, and no protection against impulse purchases.

d. Loss of interest, theft, and no protection against impulse purchases

Which of the following is not a strategy to protect against identity theft? a. Never respond to unsolicited e-mails asking for credit cards, passwords, or other financial or security information. b. Always shred financial statements and receipts that show account-related information. c. Reconcile your monthly account information to make sure there are not any unauthorized transactions. d. Never use credit cards online since nearly all identity theft occurs online.

d. Never use credit cards online since nearly all identity theft occurs online.

Tula, age 33, is thinking about investing for retirement. She plans to retire when she turns age 62. She will need $1.2 million in today's dollars in assets. If Tula has $300,000 currently saved and can earn an annual average real rate of return of 4%, will she meet her retirement goal? a. Yes, because her money will double every 18 years, which will generate an excess savings amount. b. No, because after inflation it will take her 72 years to get to $600,000 in assets. c. Yes, because the risks associated with earning 4% are very low, she can invest without worrying. d. No, because her money will double every 18 years, leaving her short of her goal.

d. No, because her money will double every 18 years, leaving her short of her goal.

If a parent's intent is to save for their child's education, which savings product is best? a. UTMA. b. Savings account. c. UGMA. d. Qualified Tuition Program.

d. Qualified Tuition Program.

When interest rates increase, which of the following outcomes is most likely? a. The value of investments will increase. b. The rate of return on a bank or credit union savings account will increase. c. Holding cash in an emergency fund is more attractive. d. The rate of return on a bank or credit union savings account will increase, and holding cash in an emergency fund is more attractive

d. The rate of return on a bank or credit union savings account will increase, and holding cash in an emergency fund is more attractive

Generally speaking, you should build the base of your investment pyramid using low-risk assets. Which of the following assets would be most appropriate for building Level 1 of an investment pyramid? a. U.S. savings bonds. b. Certificates of deposit . c. Treasury bills. d. U.S. savings bonds, certificates of deposit, and treasury bills.

d. U.S. savings bonds, certificates of deposit, and treasury bills.